Investors in Oracle (ORCL) were relieved after the company's second quarter results. Strong bookings for the cloud business and a slight re-acceleration of total revenue growth is comforting to investors who were doubting the company's ability to compete effectively, with competitors emerging from multiple angles.
As Oracle still has a lot to prove, and the current valuation is at no means very cheap, I remain cautious and stay on the sidelines.
Second Quarter Results
Oracle generated second quarter revenues of $9.27 billion, up 2.0% on the year before. Revenues came in ahead of consensus estimates at $9.18 billion, resulting in a big relieve among investors.
Net earnings came in at $2.55 billion, down 1.1% compared to the second quarter in the fiscal year of 2013. Note that on the back of sizable share repurchases, earnings per share were up by three cents to $0.56 per share.
Earnings on a non-GAAP basis came in at $0.69 per share, two cents ahead of consensus estimates.
Looking Into The Results...
Reported revenue growth of 2% came in ahead of estimates, and note that in constant currencies growth would have come in a percent point higher.
Growth has been driven by the software business, with revenues being up by 3.7% to $6.90 billion. Growth was driven by software updates and support as new licenses were essentially flat. Hardware revenues were essentially flat at $1.32 billion as service revenues fell by 6.0% to $1.06 billion.
Operating expenses inched up by 140 basis points to 63.2% of total sales. This came on the back of higher sales and marketing expenses or investments, which totaled 21.2% of total revenues. This was up 170 basis points compared to last year.
On the back of the higher costs, operating earnings fell slightly compared to a year earlier. This could not be offset by lower income tax rates, as net income fell slightly compared to last year.
... And Looking Ahead
Revenues in the third quarter will show a further acceleration in terms of growth. Revenues are seen up between 2% and 6% which implies revenues are seen around $9.32 billion, plus or minus about $200 million.
Non-GAAP earnings are seen between $0.68 and $0.72 per share.
This guidance is in line with analysts who were looking for third quarter revenues of $9.35 billion and earnings of $0.70 per share. The fact that Oracle didn't miss was a huge relief already.
Oracle ended the second quarter with $37.0 billion in cash, equivalents and marketable securities. Total debt stands at $24.2 billion, resulting in a solid net cash position of $12.8 billion.
Revenues for the first half of the fiscal year came in at $17.65 billion, up 2.1% on the year before. GAAP earnings rose by 2.8% to $2.74 billion at the same time. As such, I see annual revenues of around $38 billion for this year, while GAAP earnings could come in around $11 billion.
Factoring in the nearly 6% jump on the back of the earnings release, with shares trading at $36.50 per share, the market values Oracle at $167 billion. This values operating assets of the firm at $154 billion, 4.0 times annual revenues and 14 times earnings.
The company currently pays a quarterly dividend of $0.12 per share for an annual dividend yield of 1.3%.
Some Historical Perspective
On the back of the strong release, shares of Oracle rose to a 13 year high as the year to date returns of 10% still lag the wider market. Despite the major concerns which investors had about Oracle's future, given emerging competitors and business models, Oracle is working hard to adapt.
Between the fiscal year of 2010 and 2013, the firm increased its revenues by some 40% to little over $37 billion. Earnings grew much quicker, coming in at nearly $11 billion last year. On a per share basis, earnings grew even quicker as Oracle has repurchased roughly 8% of its shares over this time period.
Investors are very pleased with the quarter, the guidance and some bright spots to be found in the release. One of these bright spots is the 35% growth of cloud bookings, which should bode well for future cloud revenues.
Recent deals like Eloqua and Rightnow, combined with over 100 acquisitions over the past decade are slowly pushing the giant tech firm into the right direction. Bookings in these upcoming areas are important as they are a leading indicator. The new subscription models will take two to three years to yield enough in recurring revenues compared to traditional software license sales, according to President Mark Hurd. This means that revenue growth will automatically trail revenue growth under traditional software license sales.
Note that total software growth in the second quarter was driven by renewals and support, and not new licenses and cloud subscription sales. Yet the strong booking numbers for cloud will already appear with a small lag in the third quarter. New software license and cloud subscription sales which were $2.4 billion in the second quarter are set to increase anywhere between 1% and 11% for the third quarter. Oracle aims to be a player on all three levels of the cloud being software, platform and infrastructure. Notably the database position of the firm is expected to be strong as Oracle is the owner of Java.
Revenue growth as shown in the second quarter will actually accelerate slightly in the third quarter, being the result of acquisitions and sales force expansion. GAAP earnings growth is flat at the moment, "financing" top line revenue growth which ultimately should provide a big push to earnings.
On top of cloud, Oracle will furthermore focus on enhanced database offerings, handling huge amount of data and online commerce. Like most competitors, the need for good database offerings, notably in terms of unstructured data are huge. Computing power remains an area in which the company aims to compete aggressively as well. Competition will mostly be based on price, as Oracle competes against giants Amazon.com (AMZN) and Microsoft (MSFT) as well as specialized companies like Rackspace (RAX).
At the start of December, when analysts were turning cautious on Oracle, I last took a look at the firm's prospects. I noted that Oracle is facing headwinds in its core markets, but the solid second quarter results and good outlook in the coming quarter reveals that the situation has already stabilized. In fact, the situation might have already started to improve. It is important to note that strong bookings growth which are occurring at the moment will really start to show up in terms of actual revenue growth. This changing business model towards SaaS provides a lag in this growth.
From Oracle's strong report and outlook it seems that the company remains competitive, as many including me had doubts about the competitive position of the firm. Yet this does not automatically translate into a buying opportunity in my opinion at 14 times earnings as the company still has a lot to prove to show sustainable revenue and earnings growth again. I remain on the sidelines.